Buyers and sellers of large amounts of securities must use extreme care in acquiring or disposing of their large blocks of equities.
One of the more popular trading methods used for block trading is placing limit orders in dark liquidity pools. These orders wait for contra orders of the same security to enter into the liquidity pools at which they are generally matched at or near the midpoint between the NBBO. Generally less than 10% of block orders can be crossed using this method because of the imbalance in trading interest. Imbalances in trading interest is what moves prices. The movement of prices generates liquidity.
Another method is for a customer to give the order to be worked by his broker. In another method the block order is broken up into smaller orders and entered into the market over time. There are problems with this method; computer programs can detect the order flow of the small orders coming into the market and route similar orders on the same side which increases trading costs. It also can be very costly if the market moves against the trader while he is working an order.
The main goal of a block trader is to achieve a good average execution price for his block of shares, at a price which has been least impacted by the trading interest generated by the working of his block. His goal is to efficiently communicate his order to other naturals without leaking his trading interest to unintended third parties.
Trading systems offer rebates to liquidity providers that supply limit orders to their order books. These rebates are set by the trading systems based on the amount of liquidity that is provided by the liquidity provider. With these trading systems the liquidity providers are unable to set their own rebates.
When large limit orders are displayed in order books, it creates a profitable trading opportunity for traders who place smaller limit orders which are slightly better priced than the larger limit orders. This forces traders who place large limit orders to break their limit orders into smaller orders, or place their large limit orders into an order book, but only display a small portion of their orders to the market. If current trading systems could prevent “penny jumping,” it would allow traders to show much larger orders.
Most trading systems, when accepting a marketable limit order priced below market, will generally sweep down the book until the limit price is reached or the order is filled. In conducting the sweep these trading systems include all sizes of limit orders using price priority and do not target limit orders of equal or greater in size.
There is a need in the art for a trading system that can trade block orders more efficiently.